Curran v. Federal Commissioner of Taxation.

Members:
Barwick CJ
Menzies J
Gibbs J
Stephen J

Tribunal:
High Court of Australia

Decision date: Judgment handed down 4 November 1974.

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Barwick C.J.: The appellant, a stockbroker, during the tax year ending on 30th June, 1969, was dealing in shares on his own account. In keeping his financial accounts in connection with that business he treated the shares which he bought as his stock in trade, bringing to account as the opening entry for the financial year all the shares he then had on hand at their market value or cost whichever was the lower, entering to his debit the cost of all the shares which he acquired during the year and to his credit the amounts received for shares of which he disposed during the year, and bringing to account at market value or cost whichever was the lower as a closing entry the shares of which he remained possessed at the end of the financial year. The difference between the total of the first two items and the total of the second two represented his gain or loss in his share dealing for the year. He had also an income account to which he carried the amount of dividends which he received during the year.

He purchased in the tax year shares in various companies which, after he had become a shareholder, resolved to issue bonus shares either out of the proceeds of the realisation of assets not acquired for the purpose of resale at a profit, or out of the amount of the revaluation of assets not acquired for the purpose of resale at a profit, or out of a share premium account, or out of a combination of these elements. The appellant debited his share dealing account to which I have referred with the amount of capital credited as paid up in respect of such bonus shares as the price paid for them as well as the cost of the shares in the company originally acquired by him. Later, when he sold the shares originally acquired and the bonus shares, he credited the account with the amount received on the sales. Over the period of the year, these entries, along with all other entries of shares purchased and sold and with the value or cost as the case may be of opening and closing lists of shares on hand, resulted in what was claimed to be a trading loss of $206,019.

In his return of income for the tax year, the appellant entered his dividend and other income so far as its receipt constituted

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assessable income and claimed to deduct the abovementioned sum of $206,019 as a loss under sec. 51 of the Income Tax Assessment Act , 1936-1969 (the Act).

The Commissioner disallowed this deduction and assessed the appellant on the footing that the appellant had made a much smaller loss from his share dealing in the companies which had issued bonus shares in the year. An objection to this course of assessment by the appellant was disallowed by the Commissioner. Pursuant to the appellant's request his objection was treated as an appeal to this Court where a Single Justice stated a case for the opinion of a Full Court.

The questions asked by the case are as follows -

• 1. Did the Appellant as claimed in paragraph 22 hereof incur a loss in relation to the 200 shares in Stewart Bacon purchased by him on 29 April, 1969 in the sum of $185,848.96 which was an allowable deduction under the provisions of the Income Tax Assessment Act , 1936-1969?
• 2. Did the Appellant incur a loss on the sale of the 191,000 shares in Stewart Bacon issued to him on 6 May, 1969 in the sum of $2,368.40 which is an allowable deduction under the provisions of the said Act?
• 3. In relation to the Appellant's trading in shares in the companies listed in paragraph 24 hereof, did he incur -
  • (a) a loss of $22,573
  • (b) a loss of some other, and if so what, amount
  • (c) a profit of $556, or
  • (d) a profit of some other, and if so what, amount?

The parties resolved their disagreement as to the amount to be deducted in respect of dealings in the shares listed in paragraph 24 and consequently have agreed on the answer to the third question.

In the agreed facts set out in the stated case there are eleven instances of the purchase of shares in companies, with details as to the various steps by which the bonus shares in such companies were issued. But the parties agreed on the answer to the third question asked in the stated case with a slight variation in the amount of the loss claimed by the appellant. Consequently, it is only necessary to deal with one instance, this as it happens being the instance which involved by far the largest sum claimed as a loss. Accordingly, I set out the basic facts of this instance.

On 28th April 1969, the appellant purchased 200 fully paid shares in Stewart Bacon Holdings Pty. Ltd. (Stewart Bacon) for the sum of $186,046.48 which was at the rate of $930.23 per share. The issued capital of that company at that date was $215. Its assets consisted of $206,619.78 at bank on current account. Its liabilities were $162.02. It had a Capital Profits Reserve account ($206,242.76) which represented the proceeds of the realisation of assets not acquired for the purpose of resale at a profit. The articles of association of the company were in the form of the regulations in Table A to the fourth schedule of the Companies Act , 1961 (N.S.W.) with some modifications not presently relevant. Its nominal capital on that date was $100,000 divided into 100,000 ordinary shares of $1 each.

The appellant was registered as a member of the company on 28th April 1969 in respect of the 200 ordinary fully paid shares in the capital of the company which he had that day purchased.

At an extraordinary general meeting of shareholders held on 6th May 1969 it was resolved that -

• 1. the nominal capital of the company be increased to $250,000 by the creation of 150,000 new ordinary shares of $1.00 each;
• 2. an additional article be adopted -

``96A. Any General meeting declaring a dividend may on the recommendation of the Board resolve that such dividend be paid wholly or in part by the distribution of specific assets and in particular of paid-up shares debentures or debenture stock of the company or paid-up shares

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debentures or debenture stock of any other company or in any one or more of such ways; any general meeting may on the recommendation aforesaid resolve that any money investments or other assets forming part of the undivided profits of the Company standing to the credit of a reserve account or in the hands of the company and available for dividend or representing premiums received on the issue of shares and standing to the credit of the share premium account be capitalised and distributed amongst the members in accordance with their rights on the footing that they become entitled thereto as capital and that all or any part of such capitalised fund be applied on behalf of the members in paying up in full any unissued shares of the company and that such unissued shares so fully paid be distributed accordingly amongst the members in the proportion in which they are entitled to receive dividends and be accepted by them in full satisfaction of their interests in the said capitalised sum. For the purpose of giving effect to any resolution under this Article the Board may settle any difficulty which may arise in regard to the distribution as they think expedient and in particular may issue fractional certificates and may fix the value for distribution of any specific assets and may determine that cash payments shall be made to any members upon the footing of the value so fixed or that fractions of less value than one dollar may be disregarded in order to adjust the rights of all parties and may vest any such cash or specific assets in trustees upon such trusts for the persons entitled to the dividend or capitalised fund as may seem expedient to the Board. Where requisite a proper contract and/or proper particulars thereof shall be filed in accordance with the Act and the Board may appoint any person to sign on behalf of the persons entitled to the dividend any contract required under such Act or any contract agreeing to accept fully paid shares in satisfaction of any dividend.'';

• 3. the sum of $205,325 forming part of the Capital Profits Reserve account be ``capitalised'' and distributed amongst those who were members in respect of ordinary shares on 29th April 1969 ``on the footing that they became entitled thereto as capital in pursuance of Article 96A'' and in proportion to their ordinary shareholding;
• 4. the capitalised sum of $205,325 be applied in paying up in full 205,325 of the unissued ordinary shares of $1.00 each in the capital of the company and that the same be distributed amongst the members aforesaid in fully paid ordinary shares of $1.00 each in satisfaction of the said capital sum and in proportion to the number of shares then held by them respectively;
• 5. the said 205,325 shares rank in all respects equally with existing ordinary shares of $1.00 as from 6th May 1969.

Later the same day, the Board of Directors of the company allotted to the appellant 191,000 fully paid $1.00 shares, being his entitlement under the abovementioned resolutions. Later still on the same day the appellant sold for the sum of $197.52 the 200 shares initially purchased by him and for the sum of $188,631.60 the 191,000 bonus shares.

In his shareholding account, the appellant entered the sum of $191,000 as the purchase price of the 191,000 bonus shares and the proceeds of their sale in the record of shares sold. Taking this accounting of the transaction in the shares of Stewart Bacon, there was a loss of $188,217.36, which sum was included in the total of $206,019 claimed to be deducted in the appellant's return of income.

The Commissioner's submission is that the correct way to account for the result of the appellant's transactions in the shares of Stewart Bacon is to compare the price paid for the 200 shares initially acquired ($188,046.48) with the total price received for these and the bonus shares ($188,829.12). Such a comparison shows a surplus on

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realisation of $2,782.64 which the Commissioner claims was the profit made upon the transaction as a whole. Put another way, the Commissioner submits that the purchase price of the bonus shares was nil and that whilst their acquisition should be reflected in the account amongst the purchases, no sum should be entered against them as a purchase price.

The appellant supports the method of accounting which I have described and submits that it properly reflects the financial result of his transactions in the shares of Stewart Bacon.

The appellant begins with the proposition that a company cannot issue shares as wholly or partly paid except against payment of the amount for which they are to be credited as paid up, or without creating a liability in the shareholder who accepts them to pay that amount. Where a company has profits available for distribution it may issue paid up bonus shares to the extent of the amount of such profits, assuming its articles of association allow that course. Whether the company does so expressly or not, the effect of a decision to issue bonus shares paid up to some amount is to declare a dividend of the amount requisite to balance the amount for which the bonus shares are to be treated as paid up; such dividend not being payable in cash but to be credited to the shareholder against the liability to pay the amount for which the bonus shares are to be credited as paid up, a liability which arises from the issue and acceptance of such shares. In general, bonus shares are issued as fully paid up, but I have expressed these propositions so as to cover the issue of partly paid up shares as well as fully paid up shares.

Thus, in more than a formal sense, the shareholder who has been credited actually or notionally with an amount of distributable profits pursuant to a resolution to capitalise them and to issue bonus shares to a total paid up value equal to or less than the amount of such profits, by accepting the bonus shares in terms of the resolution to issue them as paid for the shares. By accepting them he has agreed to the application to the capital of the company of the amount of the distributable profits so credited to him, thus effecting payment for the shares.

For the purposes of income tax under the Act, the amount of the distributable profits thus credited to the shareholder constitutes income. This is so whether or not the company first purports to capitalise such profits before effecting any distribution of them. Having regard to
Blott's case , (1921) 2 A.C. 171 , it may properly be said that the receipt of the bonus share, representing an interest in the capital of the company, is not income: but the crediting of the sum of profits used to effect payment for that share is income. See
James v. F.C. of T. , 34 C.L.R. 404 ;
C. of T. (Vic.) v. Nicholas , 59 C.L.R. 230 , particularly the judgment of Sir George Rich pp. 240-245 ; and
Nicholas v. C. of T. (Vic.) , (1940) A.C. 744 , per Lord Thankerton at p. 759 .

Thus, where a company having distributable profits impliedly effects their distribution by the issue against them of bonus shares fully or partly paid up, the recipient of the shares, having regard to the definition of ``dividend'' in sec. 6 of the Act, must treat himself as having received income to the amount of the profits of the company applied to pay for the bonus shares and, in my opinion, will be entitled to regard those shares as having cost him that amount of money, even though the resolutions of the company do not provide for payment to him of that sum of money. Whether or not the recipient of the bonus shares must pay income tax in respect of the amount credited to him by the company in connection with the issue of the bonus shares depends on the provisions of the Act. But, in my opinion, whether or not he pays income tax on the amount so credited can have no relevance to the question whether he is entitled to treat himself as having paid the amount credited to him by the company as the cost of the bonus shares.

In the present case, sec. 44(2)(b)(iii) of the Act in the circumstances of the issue of the bonus shares by Stewart Bacon exempts from income tax the amount credited to the appellant in respect of the issue of the shares. But that does not mean, in my opinion, that the appellant is not to be regarded as having

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paid for those shares the amount of their paid up value. The appellant is bound to treat the amount of $191,000 credited by the company as income received by him, though by reason of sec. 44(2)(b)(iii) it is not assessable income. In my opinion, he is also entitled to treat himself as having paid for the bonus shares the amount credited to him by the company in connection with the issue of those shares. He paid for them by means of the credit given him by the company of his aliquot share of the distributable profits of the company derived from the realisation of assets not acquired for resale at a profit. The resolutions of the extraordinary general meeting of Stewart Bacon went to unnecessary lengths in purporting to allot aliquot portions of the capitalised profits of the company to the shareholders before resolving to issue the bonus shares. But it was the resolution described in the side note as a ``Special Resolution Effecting Bonus Issue of Shares from Capital Profits Reserve'', which included the resolution to apply a capitalised sum in paying in full the bonus shares, which was effective to warrant the appellant in treating the amount credited to him as his share of the capitalised profits, as having been paid by him for the bonus shares issued to him. Consequently, I would regard the appellant's account of his share dealings in the year of income as accurately reflecting the result of his transactions in the shares of Stewart Bacon. In my opinion, for the purposes of determining his assessable income, the appellant rightly claimed to have suffered a loss of $188,217.36 on his transactions in the shares of Stewart Bacon in the tax year ending 30th June 1969.

In my opinion, the questions posed by the stated case should be answered as follows -

• 1. The appellant suffered a deductible
• 2. loss in the sum of $188,217.36.
• 3. By consent -
  • (a) No
  • (b) Yes - $22,513
  • (c) Unnecessary to answer
  • (d) Unnecessary to answer.